Parents of special needs children plan for two futures

As the life expectancy of disabled adults increases, it’s increasingly complicating one issue for their aging parents: retirement planning.

Having a special-needs child adds an extra dimension to retirement planning, a complex undertaking even at its most straightforward. Parents must heed small-but-important details, such as the beneficiaries they designate on their workplace 401(k), alongside the big-picture issues: saving as much as possible for their own comfortable retirement, while ensuring that their child will be provided for, financially, physically and emotionally, after they’re gone.

“You’re planning for two lifetimes,” says Adam Beck, assistant professor of health insurance and the director of the MassMutual Center for Special Needs at the American College of Financial Services.

In 2030, there will be 1.2 million adults age 60 and older in the U.S. with developmental disabilities, nearly double the 642,000 who fit that profile in 2000, according to a 2012 paper by the Institute on Disability and Human Development, University of Illinois at Chicago. Today, people with Down syndrome have a life expectancy of 60, compared with 25 in 1983, according to the National Down Syndrome Society.

One of the most important things parents need to do is ensure that any savings and investing measures they’ve undertaken won’t jeopardize their child’s eligibility for means-tested government benefits — thus affecting the parents’ ability to save more for retirement.

To that end, you need to start with the core tool: a special-needs trust. When set up properly (with the help of an estate planner and lawyer), assets held in the trust for the disabled person won’t affect his or her eligibility for certain government benefits. To qualify for Supplemental Security Income and Medicaid, disabled individuals generally must not own more than $2,000 in assets.

That means the individual can’t directly inherit a 401(k) account, life-insurance policy, or other sizable asset — even an automobile. Instead of naming their special needs child as the direct beneficiary of any asset, parents who have established a special needs trust for their child should name the trust the beneficiary instead. Parents can tap their 401K(k) or IRA funds as necessary during their retirement, since any remaining funds will flow to their beneficiary only on their death.

Too often, people seek financial advice after their finances change. But if they wait until after a windfall to seek guidance, and the special needs child directly inherited that windfall, then means-tested benefits may already have been compromised. (Simply being named a direct beneficiary does not compromise benefit eligibility unless the asset holder dies.)

“Talk to an adviser as quickly as possible if you think there is an event that will change your situation,” says Jamie Canup, partner in the Richmond, Va. office of the law firm Hirschler Fleischer. For starters, it’s important not to name a special-needs individual as the direct beneficiary of a 401(k) or other asset; if it exists, a special needs trust should be named as beneficiary instead. Beneficiaries can be changed at any time, and parents should make sure they are current, experts say.

Shari Clark of Peoria, Ariz., and her husband, Perry, plan to start saving more for retirement now that their 26-year-old son Eric is out of college. Their older son, Robert, 31, has a diagnosis of mild mental retardation and the Clarks say they recently met with a financial adviser for the first time to help them make a retirement roadmap that takes Robert’s situation into account.

Clark, 55, has a pension through her job at a Lutheran church, while her husband, 59, who works as the manager of a high-end bicycle shop,has been socking away 10% of his salary in a 401(k) for about 20 years.

They’re helping their younger son pay off college loans and plan to discuss options with their adviser for lowering the rate on the one charging the highest interest. As part of their estate plan, they plan to split their life insurance proceeds and retirement funds evenly between their two sons, with Robert’s portion going into his special needs trust.

Another tool some parents will soon have at their disposal is a 529 ABLE account, says Beck. ABLE accounts will hold up to $100,000 in assets without jeopardizing a special-needs adult’s eligibility for means-tested government benefits. Families may contribute only up to the maximum gift exclusion each year, which is $14,000 for 2016.

The disabled individual will be the account owner and designated beneficiary; to qualify for an ABLE account, the person must have been disabled before his or her 26th birthday. Similar to traditional 529 accounts, distributions from ABLE accounts will be tax-free if used to pay for qualified disability expenses, which may include housing, employment training, assistive technology and personal support. Funds can be used immediately after an account is opened and tapped as frequently as needs arise.

But because of their contribution limits, ABLE accounts should be viewed as a complement to a special-needs trust, rather than a replacement, says Jeff Yussman, partner in Wyatt, Tarrant & Combs, a law firm in Louisville, Ky., and the father of two special needs young adults. Yussman is still weighing whether to open ABLE accounts for his children, he said. While he doesn’t see an immediate need for them, they might come in handy down the road if the children are able to work and earn some income, or if relatives want to leave them some money.

Canup says that ABLE accounts might prove a viable alternative to a special needs trust for middle-income families who can’t afford to pay a lawyer thousands of dollars to set up the trust, plus ongoing annual administrative fees.

More than 40 states have passed legislation to sponsor ABLE programs, and Florida, Nebraska and Ohio are expected to start offering the accounts this summer. Virginia plans to launch before the end of the year.

In April, nine states, including Illinois, Pennsylvania, and Nevada, announced they had joined together to form an ABLE consortium that aims to lower costs by increasing the number of potential participants. Each state will have its own ABLE program with certain common elements, such as investment services. The launch is slated for later this year, according to a spokesman. In January, Congress waived the residency requirement that restricted consumers to their state’s ABLE accounts, freeing them to choose from among all available state plans.

Perhaps one of the biggest financial challenges for aging parents of disabled adults will be health-care costs. Health-related expenses for a special-needs child, such as therapies not covered by insurance, often continue well into the disabled person’s adulthood. And at some point that starts to coincide with increased health expenses for the parents themselves.

“There’s going to come a point where someone needs to take care of them and their child,” says Paula Considine, recreation supervisor for the city of Peoria, Ariz., who leads workshops for parents of special needs children on planning for future needs.

Diminished capacity on the part of aging parents often results in the need for outside help. And that can be very costly. The median annual cost of a home health aide for 44 hours a week is $45,760, according to Genworth’s 2015 Cost of Care Survey, while the median annual cost of a private room in a nursing home is $91,250.

While there is much debate about the merits of long-term care insurance, some financial-planning experts say long-term care insurance can play a role in helping to cover expenses—and preserve retirement savings—of parents with special-needs adult children.

Ideally, parents should look into getting coverage around age 50, experts say, when they are still healthy enough to pass medical underwriting but typically have major expenses such as home purchases or college tuitions for other children largely behind them.

While long-term care policies don’t come cheap — premiums for a couple can run thousands of dollars a year—policyholders can reap some tax advantages from their outlay. The Internal Revenue Service considers qualified long-term care insurance premiums an expense that can be funded through health savings accounts up to certain limits that vary by age. What’s more, long-term-care expenses themselves can be paid out of a health savings account, as long as they meet certain criteria outlined in IRS publication 502.

Frequently paired with high-deductible health insurance plans, HSAs offer a triple-tax advantage: Money isn’t taxed on the way in, grows on a tax-deferred basis, and can be withdrawn tax-free to pay for qualifying medical expenses now or in retirement.

For parents who can afford to leave HSA money alone while they continue to work, the account can act as a powerful retirement savings vehicle, some financial-planning experts say.

Parents can tap funds in a health savings account to pay qualifying medical expenses for themselves and for children of any age who are counted as tax dependents.

One word of caution: If parents use HSA funds to buy durable medical equipment for their special-needs child, such as a wheelchair, then that equipment could potentially be counted as the child’s asset and complicate his eligibility for means-tested government benefits, says Sara Hart Weir, president of the National Down Syndrome Society. In publication 502, the Internal Revenue Service defines qualifying medical and dental expenses that can be reimbursed with HSA funds. Parents who don’t want to be put in a position to justify a purchase to the government might avoid using HSA funds to pay for a dependent child’s medical needs, Yussman says, although not everyone will take such a conservative approach.

You’re invited:

If you’ll be in the San Francisco Bay Area at the end of July, we’d like you to join us for a special event focusing on retirement issues for women. The X Factor: Retirement Matters for Women is a free, two-part event designed to bring expert analysis and actionable information to consumers and professionals on how to plan for the best possible retirement.

On Wednesday, July 27 in San Francisco financial advisers and investors are invited to join us for an evening of cocktails and conversation about Social Security claiming strategies, tax-advantaged investments, longevity risk and more. Bob Powell will be the moderator, and our guest panelists will be Eleanor Blayney, Consumer Advocate for the Certified Financial Planners Board of Standards; Sabrina Lowell, Chief Operating Officer, Mosaic Financial Partners; and Frank Paré, President and Founder, PF Wealth Management Group. For more information or to RSVP, send an email to MarketWatchReception@wsj.com

On Thursday, July 28 at Dominican University in San Rafael, Calif., we invite women and couples to join us for a panel discussion and luncheon specifically designed to help people develop a holistic approach to retirement planning, focusing on both financial and lifestyle objectives. Our guests will come away with specific lists of essentials: must-dos and how-tos. For more information or to RSVP to this event, send an email to MarketWatchEvent@wsj.com

Both events are free and open to the public, but seating is limited and reservations are required. Please note the different email addresses for RSVPs for each event.

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